Loan Waivers in India

Elections in important states like UP are over, but the bigger and more important general elections of 2019 is coming close. It is hugely expected that in the last two years of power the BJP Government, like other Governments in the past, will ramp up policies and programs, and lace them with populist flavour to gain and maintain public support in a bid to remain in power come 2019. Even though more than half of our population is dependent on agriculture for their livelihoods, they contribute only 16% to the national output. Outstanding agricultural loans, however, amounted to Rs. 12.6 lakh crores as of 2016 as notified by the RBI. Considering those numbers, it does not come as a surprise that loan waivers for farmers is a popular policy amongst politicians to gain vote banks. According to a Merrill Lynch report, farm loan waivers will amount to 2 per cent of our gross domestic product (GDP) by the 2019.

The recently elected Yogi Adityanath led BJP government’s first actions in UP included waivers of farm loans. All loans of up to Rs. 1 lakh of small and marginal farmers would be waived. It also announced waiver of NPA’s worth Rs. 5,630 crores which benefited 700,000 farmers in total. Their entire loan waiver program is estimated to cost the government an astronomical Rs. 36,359 crore, will benefit a total of 21 million farmers. While this was a pre-election promise fulfilled and seems a good political move, it is not entirely so, and it is definitely not good economics. It is not only in UP that loan waivers are gaining momentum. Tamil Nadu has had a loan waiver sanctioned by the government and the court asking for it to include a larger scope of farmers. The Maharashtra government is hoping to soon announce loan waivers amounting to approximately Rs 32000 crores for its farmers. Madhya Pradesh has seen a fast by their Chief Minister calling for rights of farmers.

The bulk of the farmers in India are ones with fragmented land holdings, no capital and machines, use traditional methods of farming, and account for only a small fraction of the total produce of India. The farmer has a Hobson choice, if the monsoon is bad all his investment the crops is gone and if the monsoon is good there is no takers for his product and he is at the mercy of traders who will force him to sell at lowly price (paradox of poverty amongst plenty). The demand for waivers and high MSP’s by the severely affected farmers is justified. But the nation pays a very heavy cost for the distress which is our own making. If in one state the cost goes in tens of thousands of crores, imagine the cost of loan waivers to a majority of the small farmers in India. Such one way transfer payment only worsens the budget deficit and financial leverage of the country, and is certainly not fiscal prudence. It simply acts as a catalyst for other macroeconomic problems that arise from deficits.

Loan waivers have gained traction in recent times due to the increased instances of farmer suicides across the country. Most of these are due to farmers falling in debt traps due to bad crops in a particular season. Loan waivers are a source of short term relief. It does not increase productivity or profitability of the farmers. It is only a source of short term political gains rather than long term improvement of the conditions of the farmers.

While the demand for loan waivers are somewhat justified given the poor conditions of the agriculture infrastructure in India, these are not a permanent solution to the woes of the farmers. Waivers are just a temporary situation. In the end, the farmer is not saved from the debt trap. He takes a loan, waits for a waiver, and after that again takes a loan, and the cycle continues. One loan waiver leads to expectations and demand for many more. According to the Situation Assessment Survey (SAS) of 2012-13, 52% of all farmers in the country have debts outstanding, with an average debt of Rs 47,000. The worst part is that these loans are not used for investing in machinery or improving infrastructure. More often than not, these farmers end up buying seeds and fertilizers from it, and since Agriculture in India is hugely dependent on optimal rains, little or excess rains destroy the crops and leave the farmer with nothing in his hand. Also, some farmers use this loan money on unnecessary luxuries, or spend it on social functions. There should be strict regulations imposed by the government regarding the use of these loans. They should be only used for long term investments in revenue generating capital machinery. Once this happens, companies that manufacture such farming related capital gods could face a huge rise in demand and would perform well. If any such news regarding any such regulations comes, investment in iron and steel and other manufacturing companies will increase leading to increased production.

Another issue regarding the issuance of loan waivers is that many farmers are not even covered by it. Only around 60% of the loans are covered by institutional sources. A huge majority of small and marginalized farmers borrow money from local moneylenders and landlords at exorbitant rates, and hence do not receive the benefits of the waivers like the relatively larger farmers do. Loan waivers also create the problem of moral hazard amongst farmers. There is nothing to differentiate the legitimate borrowers who repay on time from the defaulters. Voluntary defaults are not distinguished from involuntary ones. As a result, everyone thinks that it would be in their personal benefit to not repay. This discourages sound credit recovery policies of banks, and adds to their never ending list of NPA’s. Banks writing off loans from their books may not suffer loss as States will compensate them, but it is not sound for the economy as a whole. In fact this may a blessing in disguise for banks as the already bad loans will be made good by the State Governments, but what will be hit is the confidence of banks to lend in future, and this will discourage credit creation in future.

Small farmers generally take up loans from the informal sectorThe Nifty PSU Bank Index has fallen past month

The need of the hour is investments in irrigation, marketing, warehousing, technology etc for farmers. Private investments should be encouraged in agriculture to improve the current infrastructural facilities. Loans given to farmers should be strictly monitored so that they are used for purchase of long term assets only. Instead of the government deciding when to give waivers, it should be decided by an independent committee of the RBI. Farmers should be introduced to alternative sources of income other than agriculture like manufacturing and entrepreneurship, so that they have an assured inflow of cash at all times. Village and cottage industries should be encouraged for the same, and tax benefits should be given to such enterprises. The aim should be to make all farmers so self reliant that the need for loan waivers ultimately fades out. In recent times we have seen a trend of farmers moving toward the formal sector and all efforts should be made that they rely only on the formal sector for their needs.

Private Investments in Agriculture have been on the decline (Source: Ministry of Agriculture and Farmers Welfare)

With the elections round the corner, and states waiving loans left right and center, banks, NBFC’s and other such micro finance entities which give agricultural loans can be expected to take a hit, and could be a risky and tricky investment. If after such waiver schemes are announced and prices of securities of financial institutions fall, that would be a time to buy those because they will never go out of business as they are an integral part of the functioning of our economy, not to mention Modi’s Digital India program.